On Friday, Fannie Mae’s stock closed at just under $10 after reports of White House plans to sell a partial stake in the mortgage-finance giant. That’s roughly seven times its $1.39 price on the day President Trump was elected. Its sister company, Freddie Mac, has seen a similar surge.
Not bad for two firms that have been under government conservatorship for the last 17 years. Apparently, markets now believe that privatization, with a lucrative payout for shareholders, is a real possibility.
Bill Ackman, one of several billionaire hedge fund managers with disclosed positions in Fannie and Freddie, has been particularly outspoken in arguing that shareholders should be made whole.
He estimates that even if the government retains a 71 percent stake in Fannie Mae, its stock could rise to $35, delivering a 25-fold return to those who bought in on Nov. 5. Freddie Mac investors could see even greater gains.
But shareholders do not deserve this massive windfall. And more importantly, allowing them to profit would raise the risk of another financial crisis.
Bankruptcy law recognizes that owners and shareholders are ultimately responsible for a company’s performance. They receive the lowest priority in the event of a company’s insolvency. The threat of total loss is what incentivizes investors to monitor management and demand prudence.
Fannie Mae and Freddie Mac’s management, however, was far from prudent, wiping out the entire value of both companies and then some. Given this track record, it would be a serious mistake for the government to enrich shareholders now.
It would not only be unjust, but it would also create dangerous incentives. It would signal to Fannie, Freddie, and to other “too big to fail” institutions that they can take excessive risks, knowing that profits will be theirs while taxpayers absorb the losses.
This dynamic — what economists call “moral hazard” — is precisely what sets the stage for financial crises.
In retrospect, it’s clear that Fannie and Freddie weren’t merely struggling with short-term headwinds when the government bailed them out in 2008. They were catastrophically mismanaged companies that went on to rack up $258 billion in losses according to my calculations — vastly more than the $160 billion in profits (net present value) they generated since first becoming private companies almost 40 years prior.
Similarly, their combined market capitalization before the crisis — $102 — billion was far less than the $191 billion they ultimately received in bailout funds. This means the government has paid for Fannie and Freddie almost twice over.
It’s true that Fannie and Freddie have since repaid the bailout funds, with interest. But that repayment was due to strong earnings after 2012, operating under new management, with government supervision and funding. Their prudent operation of recent years is no reason to reward shareholders for their recklessness before the government takeover occurred.
The bottom line is that, after Fannie and Freddie’s wild spree of wealth decimation, the firms the government took over in 2008 were essentially worthless, and there was nothing left to share with the stockholders.
Scott Susin is the founder of the Center for Mortgage Access. Previously, he served as an economist at the Federal Housing Finance Agency, Fannie Mae and Freddie Mac’s primary regulator.
